Forex Hedge

What is a 'Forex Hedge'

A forex hedge is a transaction implemented by a forex trader to protect an existing or anticipated position from an unwanted move in exchange rates. By using a forex hedge properly, a trader who is long a foreign currency pair can be protected from downside risk, while the trader who is short a foreign currency pair can protect against upside risk.

BREAKING DOWN 'Forex Hedge'

The primary methods of hedging currency trades for the retail forex trader is through spot contracts and foreign currency options. Spot contracts are the run-of-the-mill trades made by retail forex traders. Because spot contracts have a very short-term delivery date (two days), they are not the most effective currency hedging vehicle. In fact, regular spot contracts are usually the reason why a hedge is needed.

Foreign currency options are one of the most popular methods of currency hedging. As with options on other types of securities, foreign currency options give the purchaser the right, but not the obligation, to buy or sell the currency pair at a particular exchange rate at some time in the future. Regular options strategies can be employed, such as long straddles, long strangles, and bull or bear spreads, to limit the loss potential of a given trade.

Not all retail forex brokers allow for hedging within their platforms. Be sure to research the broker you use before beginning to trade.

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RELATED FAQS
  1. What is hedging as it relates to forex trading?

    When a currency trader enters into a trade with the intent of protecting an existing or anticipated position from an unwanted ... Read Answer >>
  2. Is it possible to trade forex options?

    Yes. Options are available for trading in almost every type of investment that trades in a market. Most investors are familiar ... Read Answer >>
  3. How can I invest in a foreign exchange market?

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  4. What is the difference between trading currency futures and spot FX?

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